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With All the Bad News, How Can Stock Prices Go Higher?

An overheated Treasurys market, a breakthrough in technical levels and help from the Fed could provide the next boost for stocks

The summer's weak volume and trader-driven market could make for some volatile conditions.

Earnings season is over, the jobs market has shown virtually no signs of improvement, and investors continue flocking to safety. So what, if anything, is there to make stocks go higher?

The question has been bedeviling investors this week as the market's big 7 percent earnings-fueled July rally has given way to August apathy. The Standard & Poor's 500 is up for the week after a late-day rally Friday, and higher by a few points for 2010.

Yet with a bevy of factors working against it including another weak jobs number, market strategists were not convinced that all is lost.

After all, with a market known for its irrationality and electronic trading programs seemingly in control during the weak-volume days of summer, anything seems possible.

Traders work on the floor of the New York Stock Exchange.
AP
Traders work on the floor of the New York Stock Exchange.

"Everybody (on Wall Street) wants to be an optimist," says Kathy Boyle, president of Chapin Hill Advisors in New York. "They think things are going to get better, that the Fed will step in and that things are turning around. But I think regular people are feeling really insecure. There's such a disconnect going on."

Indeed, even as the market roared through July, the safety trade remained intact as investors continued to worry about deflation.

Treasury yields held firm through the month, though under normal circumstances yields would rise as stocks surge higher. Investors dump safe-haven investments like bonds during good times, forcing yields higher as an enticement to buy.

The government debt market surged again Friday, with the two-year yield briefly dipping below 0.50 percent as part of a continuing series of record lows, while the benchmark 10-year note yield approached 2.80 percent, which it hasn't touched since April 14, 2009.

And that could be another thing that would lift stocks: Treasury yields could go so low that investors would tire of the low returns and turn to the equity markets.

"There's a lot of uncertainty and concern about the job market and the economy and that's fueling Treasurys," says Kim Rupert, managing director of fixed income analysis for Action Economics in San Francisco. Yet, she adds, "I'd be hard-pressed to be a buyer....They're looking pretty rich to me."

Rupert says further analysis could show the jobs outlook to be not as dire as it seems, and that too would drive people out of the government debt markets.

And a clear move from investors out of Treasurys could serve as the all-clear sentiment signal to bring equity investors off the sidelines.

"If we can get above 3 percent on the 10-year and stay above 3 percent, you could see a very unexpected tactical shift in asset allocation where people would start selling bonds and moving into stocks," says Rick Bensignor, chief market strategist at Execution Noble in New York. "It's not a one-day event. But if you can get above 3 and hold 3 percent you might see people saying it's time to take money out of the bond markets, and stocks might be a recipient."

Technical levels would play an important role as well.

Such considerations always weigh into market moves, but with the volume so light this summer the support and resistance of various levels along the way has been a major influence.

"The handwriting is on the wall that this market is more than likely going to be headed higher." -Global Arena Investment Management, Michael Cohn

Bensignor says breaking 1,130 on the S&P would be the key. "We've played with it so many times and just can't get through," he says.

Michael Cohn, chief investment strategist at Global Arena Investment Management in New York, sees the S&P trading down to its 50-day moving average at 1097 before a break back to the upside.

"The handwriting is on the wall that this market is more than likely going to be headed higher," Cohn says. "The S&P probably is going to sell down to its 50-day moving average, then I'm relatively confident the market should bounce from there. So I do consider this to be a buying opportunity here in the next few days."

Much was made when the S&P's 50-day moving average crossed beneath the 200-day on July 7, making the so-called "Death Cross" that is supposed to be a strong bearish signal. But the market rallied from there, making it a contrarian buy signal.

The two averages again are within a point of crossing, but if the 50-day moves above then that would make a "Golden Cross," generally considered a buy signal. It remains to be seen whether that, too, becomes a contrarian signal and presages a market move downward.

"It honestly looks like it's just a game with the longs," says Boyle, referring to investors who are buying stocks now. "That's why more and more people feel disillusioned with Wall Street. It's light volume, the bears have gotten killed too many times, and a lot of this has been manipulation with the trading firms."

Still, Cohn thinks there are fundamental reasons for the market to move higher.

The strength of multinational companies, he says, will help propel the broader market, which itself is weighted toward the big firms whose business is increasingly emanating from overseas.

"The whole S&P is basically multinationals...especially since it's a cap-weighted index," he says. "It's really the same theme that's been going on and talked about over and over again: It's not just the US anymore."

Finally, there's the Fed.

With the weak jobs number, speculation grew Friday that the central bank, during its Open Markets Committee meeting next week, could signal another round of quantitative easing to keep the economy moving.

Though the moves are not always popular, a Fed intervention could give a short-term boost to the market, even at the expense of the long-term threat of inflation.

"They are going to buy more debt, they are going to buy mortgages, they are going to buy auto loans," says Peter Schiff, president of Euro Pacific Capital in New York and a critic of the central bank. "The Fed is going to try to reflate the bubble economy."